Question

What is the nature of a “discount: on notes payable?

Short answer

Note Payableis a current liability whose payment is due within one year. Notes payable discount occurs when the carrying value is less than the face value.

Step-by-step solution

Meaning of Discount

A discount is a difference between the face value and the carrying value. The concept of discounted notes is that the short-term obligations are issued at a discount from face value, and they don’t have interest since they receive the face value at maturity

Discount on Notes Payable

A discount on notes payable occurs when the note`s face value is greater than its carrying value. It represents the added interest that must be paid over the life of the note.

A contra liability account for notes payable would be called the discount on notes payable. The difference is gradually amortized over the remaining life of the note so that the difference is eliminated as of the maturity date.

For example, a 1-year discount note of face value of $1,000 purchased at the price of $950 would yield $50.

Discount on notes payable = Difference of Face value & Carrying value

Hence, the discount would be $50.